Home remodeling could finally cool, bringing these stocks back to earth

Next to Netflix, home renovation may have been the biggest stay-at-home play of the pandemic.

From new home offices to expanded decks to basement gyms, homeowners have been upgrading and expanding their spaces at record rates for the past two years. That trend appears to be slowing down. 

After big projected jumps in the first half of this year, the gains in renovation spending will top out in the third quarter and then decelerate to a more sustainable growth rate, according to Harvard’s Joint Center for Housing. 

“The rising costs of labor and construction materials, difficulty retaining contractors, and climbing interest rates could discourage owners from undertaking new or larger remodeling projects,” said Abbe Will, associate project director of the Remodeling Futures Program and HJCH.

Still, spending could reach $430 billion by the second half of this year, a nearly 20% jump from $357 billion at the same time last year. Spending is then projected to show a 17% year over year gain in the fourth quarter. Annual gains before the pandemic were in the 1% to 3% range. 

Home renovation retailers that saw huge gains last year, are already taking hits to their earnings as inflation eats away at profits. Lower demand could exacerbate that. Stocks of names like Masco, Sherwin Williams, Lowe’s and Home Depot are all down year-to-date, and down more than the broader markets.

In its latest earnings release, Sherwin Williams cut its full year forecast citing supply chain issues that it expects will continue. CEO John Morikis said on an analyst call, “We will continue to implement pricing actions as appropriate to offset increased costs.”

Laura Champine, senior analyst with Loop Capital Markets, downgraded both Lowe’s and Home Depot last fall, basing the call on fundamentals of the home remodeling business going forward. Champine is seeing that play out now.

“We’re not going to get the stimulus we had last year and the year before and two years ago everyone had to find their home office, their home school and that’s not going to happen again,” said Champine, in an interview on CNBC’s Power Lunch Friday.

 ”Those big remodelings are what drives the bus and that’s where the profits are. You’ll still see for Home Depot and Lowe’s people will still buy duct tape, they’ll need light bulbs, but if you’re not going there to refresh your kitchen and bath and you’re not going there to replace your flooring, it is rough. So that’s a leading indicator of what the sentiment is around these stocks.”

The latest guidance from Lowe’s was below expectations. The company’s chief financial officer, Dave Denton said while it expects to outpace competitors, the company is preparing for a “modest sector pullback in 2022.”

Builder confidence in the remodeling market, however, did see gains in the fourth quarter of last year, according to the National Association of Home Builders. There was, however, a caveat.

“It is important to note the survey data were collected in late December and early January and do not fully capture recent increases in interest rates,” said NAHB Chief Economist Robert Dietz. “Going forward, NAHB expects remodeling activity to continue to grow in 2022, although not as fast as it did in 2021.”